Foreign Investment Law will transform joint ventures in China

China’s new Foreign Investment Law means that all entities in China, whether foreign-invested entities (FIEs) or Chinese-invested, will receive the same “national treatment”. In principle, FIEs will generally be entitled to treatment that is no less favourable than that available for Chinese-invested ones, from January 1, 2020.

State protection?

The new investment law provides that FIEs may enjoy: state protection of foreign investments; the right to be consulted for recommendations in the adoption and interpretation of laws; the right to equal participation in standard development work; protection from expropriation except in accordance with statutory procedures; and the right to transfer money out of China in accordance with applicable law.

Many of those rights currently exist, and the language such as “in accordance with law” may limit the benefits. Nonetheless, articulation in the FIE law may prove helpful. Some aspects of the new law have received attention (for example, prohibitions on forced technology transfers), but there has been insufficient focus on the impact it will have on joint ventures (JVs).

The impact on joint ventures

For international investors, the most significant feature of the FIE law is the mandate that existing People’s Republic of China (PRC) company law will govern the relationship between JV partners, not the separate laws and regulations that have governed those relationships since the 1980s.

In anticipation, every existing Sino-foreign JV must be amended to conform to PRC company law. The FIE law allows until December 2024 to make those changes, but given the challenges of negotiating with JV partners, investors should focus on the issue soon.

Corporate governance structures under the PRC company law differ materially from existing structures. For example, under PRC company law, the board of directors reports to the shareholders meeting, whereas under the JV laws, the board of directors, not the shareholders meeting, is the highest authority.

Also under the FIE law, unless otherwise agreed, decisions may be made on the basis of majority vote, whereas existing joint venture laws require unanimous approval at the board level for decisions to amend the articles of association, increase/decrease registered capital, and terminate or dissolve, or merge or split the company. Accordingly, the board of directors of a joint venture under the company law will serve much the same function as is common in western economies.

All investments affected

The FIE law makes other important changes. For example, currently mergers and acquisitions and other activities of FIEs are subject to various regulations, and there are many industry- and sector-specific regulations that apply only to foreign investors. By contrast, the FIE law applies to all direct and indirect investment, meaning that it will cover even investments in China made by an existing FIE. Further, for the first time, a foreign natural person may be an investor.

Companies with Sino-foreign JVs should focus now on the complex governance issues the new law presents.

Daniel Roules is managing partner at the Shanghai office global law firm Squire Patton Boggs.